Business Protection: What Is It and Why Does It Matter?
For many business owners, the business is more than a source of income. It may represent years of work, a major part of the family’s financial security, jobs for employees, relationships with customers, and a significant portion of the owner’s overall wealth.
That is why protecting a business is not just about protecting the company itself.
It is also about protecting the people who depend on it.
What Is Business Protection?
Business protection is a broad term for strategies designed to help a company continue operating when an owner, partner, or key employee dies, becomes disabled, or can no longer contribute to the business. Depending on the situation, insurance may help provide funds to:
● Replace a key employee
● Keep the business operating during a difficult transition
● Help fund the purchase of a deceased owner’s interest
● Protect an owner’s family
● Cover certain business expenses
● Support business succession planning
● Help repay certain debts or obligations
● Provide employee benefits that help attract and retain talent
There is no single “business protection policy.” The right strategy depends on how the business is structured and what financial risks need to be addressed.
What Is Key Person Insurance?
Some businesses depend heavily on one or two people. That person may be an owner, top salesperson, executive, rainmaker, technician, or someone with specialized knowledge that is difficult to replace.
If that person dies unexpectedly, the business may lose revenue, clients, relationships, or operational knowledge. Key person life insurance is designed to help protect the business against some of that financial impact. The business generally owns the policy, pays the premiums, and is the beneficiary. If the insured key person dies while the policy is in force, the death benefit may provide the business with money that can be used to help:
● Recruit and train a replacement
● Offset lost revenue
● Maintain cash flow
● Pay certain business obligations
● Provide time to restructure or determine the future of the company
The purpose is to give the business financial breathing room during a difficult transition.
What Is a Buy-Sell Agreement?
A buy-sell agreement is a legal arrangement that establishes what will happen to an owner’s share of a business when certain events occur.
For example, what happens if one business partner dies?
Does the surviving partner automatically become the owner?
Does the deceased partner’s spouse inherit the ownership interest?
Where would the surviving owner get the money to purchase that interest?
Without a plan, those questions can become complicated very quickly.
A properly structured buy-sell agreement can establish in advance who has the right or obligation to purchase an ownership interest and how that transition should occur.
How Can Life Insurance Help Fund a Buy-Sell Agreement?
Life insurance can be used as a funding mechanism for certain buy-sell arrangements.
Rather than expecting the surviving owner or the business to suddenly produce a large amount of cash after an owner dies, life insurance may provide funds that can be used to complete the agreed-upon purchase.
Depending on the structure, policies may be owned by the individual owners or by the business itself. Buy-sell planning involves important legal, tax, ownership, and valuation considerations, so insurance should generally be coordinated with qualified legal and tax professionals. The insurance policy provides the funding. The legal agreement establishes how that funding is intended to be used.
What About Disability?
Death is not the only event that can affect business ownership. An owner or key employee may become seriously ill or injured and survive but be unable to work. That can create difficult questions.
How long will the business continue paying the disabled owner?
Who performs that person’s responsibilities?
Can the other owners afford to purchase the disabled owner’s interest?
Can the business continue paying its overhead while revenue falls?
Different types of disability insurance may help address different parts of this risk.
Business Overhead Expense Insurance
For a small-business owner, personal disability insurance can help replace some lost personal income. But the business itself may still have bills.
Depending on the policy, business overhead expense insurance may help reimburse certain eligible operating expenses while an insured owner is disabled.
Those expenses might include items such as:
● Rent
● Utilities
● Employee salaries
● Certain loan obligations
● Accounting expenses
● Insurance premiums
● Other qualifying business overhead
The objective is to help keep the business functioning while the owner recovers or determines the next step.
Disability Buy-Sell Protection
A disability can also create an ownership problem. If one partner becomes permanently disabled and cannot return to work, the remaining owners may eventually want to purchase that person’s ownership interest.
A disability buy-sell arrangement can help establish how that transition will occur.
Insurance may be used to provide some or all of the funds needed to complete the purchase if the policy’s requirements are met. Again, this type of planning should be coordinated with legal and tax professionals because the agreement and insurance need to work together.
Protecting Business Debt
Business owners often personally guarantee loans or rely on the business’s future revenue to repay debt. If an important owner dies, lenders and family members may still have financial obligations to address.
Life insurance may sometimes be used to help provide liquidity for outstanding business debt or other obligations. The amount and structure of coverage should reflect the actual financial risk rather than simply choosing an arbitrary insurance amount.
Employee Benefits and Executive Protection
Business protection can also include strategies designed to help recruit, retain, and reward valuable employees. Depending on the business and the needs of the employees, that might include benefits such as:
● Group life insurance
● Disability income protection
● Supplemental life insurance
● Certain executive benefit arrangements
● Retirement-related benefits
Offering meaningful benefits can sometimes help a smaller business compete for employees with larger organizations. However, business benefit programs can involve tax, ERISA, employment-law, and compliance considerations, so professional guidance may be necessary.
Business Succession Planning
Eventually, every business owner leaves the business. The question is whether that transition happens according to a plan. Succession planning may involve:
● Passing the business to children or other family members
● Selling to a partner
● Selling to employees
● Selling to an outside buyer
● Gradually transferring ownership
● Funding retirement from the sale of the business
Insurance can sometimes help provide liquidity and flexibility during that process.
But insurance is only one component. A strong succession plan may also involve business valuation, legal agreements, tax planning, retirement planning, and estate planning.
A Few Important Questions for Every Business Owner
Business owners may want to ask themselves:
What happens to the business if I die tomorrow?
What happens if my partner dies?
Could the business survive without our most important employee?
What happens if I become disabled and cannot work for a year?
Would my family inherit a valuable business or a complicated financial problem?
Do I have a written plan for eventually leaving or transferring the business?
If those questions do not have clear answers, there may be gaps worth examining.
Business Protection Is Really Continuity Planning
Insurance alone does not create a successful business-continuation plan. The real objective is to identify the people, income, ownership interests, and obligations that are critical to the company and determine what would happen if one of them suddenly disappeared.
For some businesses, the biggest risk may be losing the owner. For another, it may be losing a key employee. For a partnership, it may be determining how ownership changes after a death or disability. The solution should be built around the risk, not around the insurance product.
The Next Step Is Education
Business protection can involve life insurance, disability protection, buy-sell funding, key person coverage, employee benefits, and succession planning. The right approach depends on the size of the company, ownership structure, business value, debt, employees, family situation, and long-term goals of the owners.
If you’d like to explore what risks exist within your business, we can start by identifying the people and financial obligations the company depends on and then determine what areas may need protection. No pressure. Just education and a clearer understanding of your options.